Second Circuit: Pension Termination Premium Arises upon Discharge, Cannot Be Discharged
by: James J. Mazza
Kirkland & Ellis LLP; Chicago
Chad J. Husnick*
Kirkland & Ellis LLP; Chicago
The Second Circuit Court of Appeals held that the pension termination premium charged against companies that terminate their defined benefit pension plans in bankruptcy is not subject to discharge under a confirmed chapter 11 plan of reorganization. See Pension Benefit Guaranty Corp. v. Oneida Ltd., 562 F.3d 154 (2d Cir. 2009). In so holding, the Second Circuit reversed the bankruptcy court’s determination that the pension termination premium arises on account of the debtor’s prepetition actions and found that the pension termination premium instead arises upon discharge and, therefore, cannot be discharged. The Second Circuit’s decision has various implications for companies that have significant “legacy” pension obligations. The decision is not, however, the death knell for restructuring pension obligations in chapter 11. This article takes a brief look at the Deficit Reduction Act of 2005, as well as the Oneida decision and its implications.
The Deficit Reduction Act of 2005
Seeking to mitigate the Pension Benefit Guaranty Corporation’s (PBGC) multi‑billion dollar deficit and prevent a repeat of the pension terminations from earlier in the decade, Congress enacted, and President George W. Bush signed into law, the Deficit Reduction Act of 2005, which provided for certain modifications to the Employee Retirement Income Security Act of 1974 (ERISA). Among the Deficit Reduction Act’s more significant provisions was the imposition of a premium (i.e., a penalty) for pension plans voluntarily terminated as part of an in-court restructuring. When a company terminates its pension plan while in chapter 11, the pension termination premium is $1,250 per plan participant, which is payable every year for three years after the debtor’s emergence from chapter 11. The pension termination premium was made permanent pursuant to the Pension Protection Act of 2006.
Bankruptcy Court’s Decision in Oneida
In the first significant case to address the treatment and level of priority of the new pension termination premium in chapter 11, the U.S. Bankruptcy Court for the Southern District of New York held that the pension termination premium is a prepetition unsecured claim subject to discharge in a chapter 11 case. In re Oneida Ltd., 383 B.R. 29 (Bankr. S.D.N.Y. 2009), rev’d, 562 F.3d 154 (2d Cir. 2009). The debtor in Oneida terminated one of its defined benefit pension plans in a voluntary distress termination pursuant to §4041 of ERISA, 29 U.S.C. §1341, thereby triggering the pension termination premium.
The debtor sought a declaratory judgment that PBGC’s pension termination premium was a prepetition unsecured claim entitled to the same level of priority as all other general unsecured claims in the case. PBGC argued in response that the pension termination premium is not a “claim” subject to discharge under the Bankruptcy Code because the obligation to pay the premium does not become enforceable before the effective date of the discharge; therefore, the premium is a “post-emergence” claim that must be paid in full. As a result, PBGC argued that even if the pension termination premium is a “claim,” the termination premium arises postpetition and, therefore, is entitled to administrative expense priority under the Bankruptcy Code, which must be paid in full and ahead of unsecured claims.
The bankruptcy court rejected both of PBGC’s arguments. First, the bankruptcy court determined that the pension termination premium in a chapter 11 case “is a classic contingent claim” that “becomes enforceable only after the debtor receives a discharge or the court case is dismissed.” Id. at 38. The bankruptcy court recognized that excluding claims that arise after the effective date of the discharge from the Code’s definition of “claim” “would permit parties to a contract to create a new priority for themselves and circumvent the provisions of the Code by the simple expedient of providing that the debt did not accrue until after bankruptcy proceedings had terminated.” Id. at 40. The bankruptcy court also observed that PBGC’s position effectively would require the bankruptcy court to conclude that Congress implicitly amended the Bankruptcy Code to create a new exemption from the chapter 11 discharge. There is a presumption against implied amendment or repeal of the Code, especially where the basis for such an implication is an appropriations bill. Id. at 40. Moreover, the bankruptcy court noted that it was particularly telling that Congress recently amended the Bankruptcy Code to include additional exemptions from the discharge, but did not create an exemption for the pension termination premium. As a result, the bankruptcy court concluded that the pension termination premium is a “claim” subject to discharge in chapter 11.
Second, the bankruptcy court held that the pension termination premium was a prepetition claim that was not entitled to administrative expense priority under the Bankruptcy Code. Id. at 45. “[W]hen a right to payment is created by a statutory obligation, the counterpart ‘claim’ dates from the time of commencement of the relationship between the parties, not the date when the right to payment became enforceable.” Id. at 43. The bankruptcy court found that all of the relevant facts supported a finding that the pension termination premium was contemplated between the debtor and PBGC before the chapter 11 filing, including the fact that the Deficit Reduction Act was passed before the debtor filed its chapter 11 petition and the debtor met with PBGC prior to the chapter 11 filing to discuss the possibility of termination and the treatment of PBGC’s claims in chapter 11.
The debtor and PBGC filed a joint petition seeking permission to appeal directly from the bankruptcy court to the Second Circuit. On May 12, 2008, the Second Circuit granted the parties’ petition.
Second Circuit's Decision in Oneida
On April 8, 2009, the Second Circuit issued a short opinion reversing the bankruptcy court. Oneida, 562 F.3d at 157. The court noted that Congress clearly stated in the statute that PBGC’s claim for the pension termination premium arose upon the debtor’s discharge. Id. The court also emphasized that the legislative history further demonstrated Congress’ intent to create a post-discharge obligation for a reorganized debtor. Id. Unlike the bankruptcy court, the Second Circuit did not find persuasive the fact that the pension termination premium arose from an appropriations bill and was not enacted as a modification to the Bankruptcy Code. See id. at 157-58. The U.S. Supreme Court has denied the debtor's petition for a writ of certiorari.
Implications
The effect of the Second Circuit’s decision in Oneida holding that the pension termination premium is not subject to discharge undoubtedly will alter the decision making of reorganizing companies that face significant legacy pension obligations. Indeed, reorganizing companies that need to terminate their defined benefit-pension plans now must find a place in their capital structure for millions of dollars of additional post-reorganization liabilities or consider liquidating plan structures if such liabilities cannot be supported post‑confirmation.
The purpose of bankruptcy is to facilitate an orderly distribution of the debtor’s assets to its stakeholders—in other words, to divvy up the pie. The pie does not become larger, however, simply by virtue of Congress’ affording PBGC a priority claim. Moreover, the decision to provide PBGC with a significant post-reorganization claim does not change the ability of the company to generate cash going forward to service the company’s pension obligations. PBGC often is but one of the reorganizing company’s stakeholders, and rather than altering a company’s decision making process with respect to pension plan termination, the practical result of providing PBGC with a significant post‑reorganization claim simply alters the allocation of the reorganizing company’s assets among PBGC and the reorganizing company’s other stakeholders, including its active employees.
* The authors thank Jonathan S. Henes of Kirland & Ellis LLP in New York and Joshua A. Sussberg of Kirkland & Ellis LLP in New York for their assistance in writing this article.
